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Five Questions with Kevin Albert, Partner, Pantheon

Without a doubt, the most interesting thing from my perspective is the fact that private equity investment vehicles evolved primarily to fit the needs and preferences of defined benefit pension funds and similar pools of capital like endowments and foundations. Yet, over the last five to 10 years, defined benefit pensions on the corporate side have virtually disappeared and this trend is starting to appear on the public pension side. Moreover, most new pensions being set up in other parts of the world like emerging markets are being initially set up as defined contribution plans. This presents a major challenge to the private equity industry and you’ve already started to see the reaction to that challenge. There’s increasing focus on how to repackage private equity to be attractive, or even legal for the two biggest alternative pools of capital, defined contribution pensions and high net worth investors, including their individual retirement accounts. I believe over the next five years, the industry will see enormous innovation in “packaging” to make PE attractive in both of these markets. You’re already beginning to see this with some of the ’40 Act mutual fund products being offered by some of the big private equity firms and funds of funds, and you’re beginning to see the introduction of defined contribution products as well.

2 The Carlyle Group’s David Rubenstein and others have been advocating illiquid investments like private equity for 401(k) plans. Do you think this will happen and when? Will it provide a huge amount of fresh capital to private equity firms if it does?

I predict without caveats that several defined contribution plans, 401(k)s, will make their inaugural commitment to private equity in 2015. It will start with a few early adopters and expand from there. The adoption of defined contribution plans will be relatively rapid thereafter and in five to 10 years most of them will have incorporated it somewhere in their plans. I have seen this movie before, with defined benefit plans in the 1990s. This should not alarm anyone concerned about too much capital. I’d view this as capital that will replace the capital formerly provided by traditional corporate defined benefit corporate plans, which today is almost nonexistent.

3 What’s your take on the secondary market? Cogent Partners’s first half secondary pricing report said some private equity limited partners have been “de-risking” their illiquid portfolios, which could be a sign of a market peak possibly?

We don’t think it’s overheated. It has simply changed substantially from pre-crisis years when it was more of a distressed market. Today, investors—who are mostly not distressed—are using it to changing or consolidate their management lineup, change their strategic mix of funds and for the most part, they’re selling good partnerships that are not distressed sales. The key to the secondary market has always been a bottom-up analysis of the assets you buy. As long as the secondary investor is pricing their bid at a rate of return they’re comfortable with based on their expectations for the underlying assets, whether they buy at a premium or a discount makes very little difference. We’ve studied this at Pantheon. What matters is how well you are able to anticipate the future growth of the assets. We therefore don’t think the fact that the secondary market has grown to $30 billion-plus indicates anything negative or risky. However, it is more liquid and transactions occur much more rapidly these days and, therefore, it has become even more important than it was before to have big databases covering the funds you desire and good information flow and relationships with those GPs to be able to operate in the accelerated bidding timelines.

4 Are there any overheated areas, any sectors that concern you?

We focus a lot on fund flows in the market and if there is one industry sector where our yellow light is flashing; it rhymes with “synergy.” That doesn’t mean every energy deal or fund is going to do poorly. However, so much excitement has been generated around shale and fracking that it is attracting unprecedented levels of capital. Generally when this happens, mistakes will be made.

5 You have been doing this along time. What else keeps it interesting for you?

Without question, the thing that has held my attention for over 30 years is the fact that almost every day, certainly in every month of my career, there has been an interesting new development of one sort or another. I truly believe that it is one of the most dynamic and interesting industries with some of smartest investors in the world. It’s got everything, personalities, drama and controversies that challenge you every day. You simply can’t sit still without falling behind. That’s attractive to me and has made my career a gift.

Edited by Steve Gelsi